Question

A combination of factors has driven the price of gas to an all-time high. Illustrate and explain the short-run and long-run impact on the market for automobiles and on individual automobile producers. Assume that cars are produced in a perfectly competitive, constant-cost industry. Identify and explain 5 consequences of higher gas prices outside of the automobile market.

Answer 1

For the cars are being produced in a perfectly competitive and constant cost industry,
In short run, a firm may operate under any of the following situations:-
a. Normal profits (total revenue= total cost, average revenue=average cost)
b. Extra normal profits (TR>TC, AR>AC)
C. extra normal losses (TR<TC, AR<AC)
Reason:- In short run, the entry and exit of firms is ruled out.

In long run, the firm can only earn normal profits (TR=TC or AR>AC)
Reason:- In case extra normla profits are earned, new firms will join the industry. Market supply will.increase. Market price will fall. Extra normal profits will be wiped out. In case of extra normal losses, some.of existing firms will leave the market. Market supply will decrease. Market price will increase. Extra normal losses will be wiped out.

Consequences of high gas prices:-
1. Deacrease in the demand of gas because of law of demand.
2. Decrease in the demand for products will require gas because gas and that particular product are the complementary goods.
3. Supply of gas would increase beacuse of the law of supply.
4. The demand for the substitute goods of gas would increase beacuse of the substition effect.
5. There will be excess supply of gas in the market beacuse the demand is less than the supply of the product because of increased prices.